- A shift in UK leadership
- Earnings strength and market doubt
- ECB caution
By Daniel Morris, Chief Market Strategist; Chris Iggo, CIO for AXA IM Core (part of BNP Paribas Asset Management; Alessandro Tentori, Chief Investment Officer, Europe, AXA IM Core (part of BNP Paribas Asset Management)
UK leadership change
UK investors face another change in political leadership. This could also mean a shift in economic policy with a focus on stimulating growth and addressing the country’s regional inequalities. Prime Minister Keir Starmer’s would-be successor, Andy Burnham, has pledged to respect the government’s fiscal rules. Gilt market credibility needs to be a key pillar of economic stability. Yields are lower since the PM’s resignation. However, two developments will be vital to market stability: cabinet appointments (particularly the choice of Chancellor) and details on Burnham’s policy agenda.
Of critical importance will be how increased infrastructure investment, as part of a pro-growth agenda, can be consistent with keeping borrowing within the fiscal rules. Given current yields, and with the Bank of England seemingly on hold, gilts look attractive. The UK stock market could also benefit from any shift in policy. While the Brexit vote’s 10-year anniversary has been met with analysis of the relative economic loss the UK has suffered since, the FTSE 350 index sits on a 12-month price-earnings ratio of just 60% of that of the S&P 500 and below its average level in the period since 2010. Any improved growth outlook could be rewarding to investors.
Strong earnings, uncertain markets
Despite a decline in oil prices of around 30% from June’s peak, equity markets have seen little relief. Technology stocks have wobbled again as worries about valuations and the outlook for earnings resurface. Non-tech indices have gained only modestly despite encouraging economic data. The US labour market has had three months in a row of steady job creation, while Purchasing Managers’ Indices point to resilient manufacturing activity in the US, Europe and Japan, and an expanding services sector in the US and Japan.
One reason for the reticence in equity markets is the lingering uncertainty about the situation in the Middle East. Another is the prospect of higher (real) interest rates. The European Central Bank has already hiked rates on inflation worries, while the new Chair of the Federal Reserve, Kevin Warsh, has vowed to deliver price stability. The prospects for earnings nonetheless look good. Consensus estimates for profit growth in the second quarter range from 12% for the MSCI Europe to 17% for the Russell Value and 30% for the Nasdaq indices. Emerging market tech earnings are forecast to rise by 138% (and 840% in Korea).1 Such strong profit growth should continue to provide solid support for equity markets.
ECB: Unwarranted urgency
Monetary policy expectations for 2026 changed spectacularly in the aftermath of the oil price shock. At the end of 2025, the market anticipated the ECB would keep rates unchanged for the whole of 2026. Recently however, expectations have shifted to more than one hike by year-end, following the 25-basis-point increase in June. These expectations do not necessarily correlate with oil prices dipping below $80 per barrel, almost 10% below the level indicated by Eurosystem staff in their so-called “milder” projection scenario.2
While we wait for further evidence that the oil price shock is showing up in non-energy goods and in services, one may wonder how long the discrepancy between market-based policy expectations and volatile oil prices might last. Eventually, in a “normalisation” scenario, the ECB might keep its powder dry and wait for additional information, before another adjustment toward a neutral interest rate that by its own admission – confirmed by our models – is likely to have slightly increased. Lower money market rates, a somewhat steeper government bond curve and altogether easier financial conditions are the likely outcome.
Implementation idea – Disruptive technologies in US and emerging markets
Rationale: The AI boom has the power to transform business operations and employment, while delivering innovative, beneficial new products and services across the world economy. As more powerful applications are developed, investment opportunities in AI infrastructure, the value chain and in downstream applications will be abundant. The unrealised potential of the technology should underpin continued strong capital expenditure and potentially profitable investment opportunities.
Implementation idea – European equities
Rationale: Strategic areas of focus related to achieving more economic autonomy will continue to underpin investment opportunities in European equities in 2026. Spending on defence, digital infrastructure and green technologies are prioritised across Europe and will be supported by both national and European Union-wide initiatives over many years. There will be multiplier effects from this across numerous sectors, and with European equities trading on lower valuations than in the US or Japan, in our view the potential opportunities in European equities are clear.
Implementation idea: US high yield
Credit conditions remain benign – global growth has withstood the energy shock and corporate earnings growth remains solid. Rising interest rates have pushed yields higher and the Federal Reserve has ruled out any chance of rate cuts this year as inflation remains above 2.0%. This is likely to underpin attractive credit market yields levels. Despite increased investment-grade corporate bond issuance, high yield markets continue to benefit from improved credit quality and positive technical and cash-flow dynamics. Yields above 7% are attractive and income return from US high yield is approaching 3% for the first half of 2026. Focused credit selection and discretionary use of leverage can potentially improve total return relative to indices in this market segment.
Asset Class Summary Views
Opinions draw on investment team views and are not intended as asset allocation advice.
| Rates | ||
| US Treasuries | = | Lower rates expectations bolstered by Kevin Warsh’s Fed appointment, but risk of higher long-term rates given fiscal outlook |
| Euro – Core Govt. | = | Yields have stabilised at a higher level with the ECB pricing two rate hikes this year |
| Euro – Govt Spreads | = | Limited fiscal response to Iran crisis so far with Italy and Spain in better financial position than in 2022 |
| UK Gilts | + | Continued underperformance on overdone inflation and fiscal concerns. Political risk may keep long-term gilt yields elevated but market rate expectations look too aggressive |
| JGBs | = | Bank of Japan cautious on rates hikes in crisis environment |
| Inflation | + | Inflation carry will be elevated through the summer; short-duration strategies potentially effective |
| Credit | ||
| USD Investment Grade | = | Spreads wider than pre-Iran crisis but subject to rates and growth risks. Short duration preferred |
| Euro Investment Grade | = | Yield buyers support positive technical backdrop but relative value worsening again as spreads tighten |
| GBP Investment Grade | + | Attractive yields for long-term sterling investors but gilts an ongoing source of volatility |
| USD High Yield | + | Income attractive with market shaking off earlier concerns about software exposure |
| Euro High Yield | + | Yields close to 6% provide attractive relative value opportunities versus investment grade |
| EM Hard Currency | = | Solid performance since March with attractive yields but macro risks remain |
| EM Local Currency | + | Scope for local rate cuts once energy outlook becomes clearer |
| Equities | ||
| US | + | Declining energy prices and long-term rates are creating scope for broader market participation, while mega-cap technology continues to exhibit strong momentum |
| Eurozone | + | Supported by cheaper energy prices, with decent valuations and upside earnings surprises. Preference for banks and electrification; country tilt toward Spain and Italy |
| UK | = | Higher interest rates remain a drag on growth momentum. Defensive sectors are likely to fare better |
| Japan | = | Fiscal expansion should support domestic demand sectors but valuations have re-rated and earnings-per-share revisions lack momentum |
| China | – | China growth remains weak and while the potential for targeted stimulus increases, particularly in strategic industries, we await concrete measures before re‑engaging |
| Global Emerging Markets | = | Earnings momentum remains strong on semiconductor and memory stocks, benefiting Korea and Taiwan, but high levels of borrowing risk a correction |
| Investment Themes* | + | Long-term positive on AI hardware, grid electrification and carbon transition strategies |
* BNP Paribas Asset Management has identified several themes, supported by megatrends, that companies are tapping into which we believe are best placed to navigate the evolving global economy: Automation & Digitalisation, Consumer Trends & Longevity, the Energy Transition as well as Biodiversity & Natural Capital; source: BNP Paribas Asset Management
[1] Source: FactSet
[2] Eurosystem staff macroeconomic projections for the euro area, June 2026
